After some reflection, I think that the Vickers report is too tame, driven by some rather weak desire to be different to the US re-regulation of the finance industry. Britain should be different by doing better than US re-regulation.

The place I would start would be by turning the retail banking operations of RBS, and perhaps Lloyds as well, into mutuals, controlled by employees and depositors and restricted to doing what the customers want and think is right. Of course, this is not simple. I bank with Nationwide, which offers better service and costs than normal banks, but whose senior management still spends too much time aping the behaviour of bankers rather than trying to think like a mutual society. We should go mutual at the retail level and concurrently improve mutual governance and incentives for mutuals to lend in ways that are profitable and help the economy (like encouraging them to develop project finance units for business lending).

Beyond that, no ring-fence. Just a total separation of the retail and industrial working capital functions of the banking system from more speculative activities. The bankers say it can’t be done. But that is because they don’t want it to be done.

It can be done. It just requires the political cojones.

More:

Bank of England calculates a £27bn capital shortfall at UK banks at end 2012 as the deleveraging process continues. Reported in the FT (sub needed) here. Reported here in The Guardian, which notes that Nationwide was only short £400m. Note that the capital shortfalls will largely be paid up by the poor, who do not own equities and keep what little money they have in banks, which pay no interest as a result of the financial crisis. The poor are also beginning to pay in terms of rising inflation. Socialism for the rich, mon brave, capitalism for the proles!

Even more:

Just seen that Obama repeatedly referred to George Osborne as ‘Jeffrey’ at G8. Then he claimed he was confusing George with his ‘favourite’ r&b artiste, Jeffrey Osborne. Surely this is some bad-ass mind games? Obama can’t really like Jeffrey Osborne, can he? On the Wings of Love? What he’s really saying is that Jeffrey Osborne is probably George Osborne’s idea of an r&b artiste… I am actually sitting here feeling sorry for George.

Next day:

Spurred on by the anthropologist, Martin Wolf makes his boldest statement on bank/financial system reform (that I have seen) in the FT (sub needed). Not sure why they aren’t flagging it on the front page just now (FT pension fund all in bank stocks?). I agree with most of what Wolf says, though I reiterate that this ring-fence idea is silly. If the Americans don’t need it – and the concomitant risk – why do we? Also, I don’t think we need special laws for locking up bankers. I am as keen as the next man to see some City types doing time, but it should be done through regular legislation. The game is to have a simple regulatory structure that forces the money people to write stuff down, so that when they break the law there is a piece of paper that the lawyer can hold up in court and say: ‘M’lud, this asshole needs to go to prison.’ If you want a good new law, let’s have one to make the granting of honours in the British system a matter for an independent panel, so that people like Fred the Shred and Howard Davies don’t get knighthoods in the first place.

A reader sends in this link to a Youtube video. It’s kind of funny, although the authors of the skit don’t understand the first thing about John Maynard Keynes, judging from the lyrics. It’s kind of British liberal Tea Party humour, if that is possible, which I guess it must be because they’ve done it. Thank god it’s Friday…

Martin Wolf has a nice review of policies of economic austerity employed in different states since the start of the global financial crisis. (You will need an FT sub.) Although he doesn’t articulate it as strongly as I would like, his basic point is simple: the crisis is not a macro-economic problem soluble by austerity. It is a micro-economic problem, or rather two different micro-economic problems.

The first problem, in the ‘Anglo-Saxon’ countries, is the need to re-regulate finance in order to stop bankers taking unreasonable risks with other people’s money. This is sort of being dealt with (including in the UK by the Vickers Commission on which Wolf sat), albeit for me in a somewhat ham-fisted, messy way that will eventually bring us more problems.

The second micro-economic problem is that a bunch of states that developed fast after the Second World War by means of close government control in order to foster industrialisation (Japan, Italy, France are the main ones) need micro-economic deregulation, especially of their labour markets and government and legal institutions, in order to return to growth and pay off the large debts they built up while becoming rich countries.

So the crisis (or two distinct crises), as Wolf writes today, has very little to do with macro-economics and is, in general, made worse by austerity. If it has taken you a while to wake up to this, however, do not fear. For in Britain we have the person who will perhaps be the last in the entire world to understand what is going on around him: George Osborne.

I haven’t written anything about George since the UK’s loss of its AAA credit rating, because there is nothing to add. Here is what I said about George in January 2011. And here is an update from November 2011. What happened since? Looks to me like four out of the past five quarters showed negative growth. The graph below is from the Office of National Statistics…

Ten days later:

Martin Wolf follows up with another attack on Osborne’s policy (FT sub needed), which Brave Dave has come out to endorse without reservation. Meanwhile, latest data suggest the chances of a triple dip recession are now as high as 50:50. All I would add to what Wolf says is that the contrast with the early 80s recession turns on the fact there are no major structural adjustments to the labour market that can be made in this crisis to get the economy moving. Unlike in the early 80s, Britain already has a very flexible labour market. This is why (as in the United States and unlike in continental Europe) unemployment has been lower than the scale of economic contraction would suggest. But it also means that monetary policy alone cannot solve the problem and actually discourages many people from undertaking the deleveraging their finances require. Back in 2010 I thought Osborne would realise this within a couple of years and listen to Vince Cable. Ho, ho, ho…

Like this:

Extraordinary. Mitt Romney has come out during a private meeting with donors and finally told it like it is. I wake up this morning to find a video on YouTube in which Mr. Romney angrily states:

‘Ninety-eight percent of people who work in banking and private equity are dependent on government, believe they are victims, believe the government has a responsibility to care for them. These are people who pay almost no tax.’ He goes on to remark that: ‘These people think they should get a bonus whatever. No serious politician could be expected to represent them and I’ll never convince them they should take responsibility and care for their lives… they are frankly beyond redemption’.

Like this:

It isn’t yet Custer’s last stand, for Euroland is the longest Hollywood movie ever made. But Flexible Mario’s press conference today gave us the predictable shape of the final showdown.

Mario’s ECB holds in one hand the promise of unlimited sovereign bond purchases of up to three years maturity (this may include buying long bonds with less than three years to expiry, his language was unclear on the detail). The seniority of the ECB claim on the bonds will be no greater than that of private investors. In the other hand, Mario holds the great northern European stick of what he repeatedly called ‘strict and effective conditionality’. Indeed Mario promised a stick more flesh-splitting still, holding out the prospect of not only EFSF-ESM supervision, but also IMF involvement as well.

As a former Italian bureaucrat who was closely involved in his country’s successful efforts to avoid structural reforms in the 90s and 00s, Mario knows better than most that you need to point the gun directly at the heads of club-Med types such as himself.

If conditionality is agreed, and sov’ bond buying in the primary market goes ahead, it will be known as OMT. We must be careful not to confuse this with OMD. OMT means Outright Monetary Transactions. OMD was the 1980s’ band Orchestral Manoeuvres in the Dark. Clearly, the two things are unrelated.

Mr Market, meanwhile, is very happy. He continues to believe that Flexible Mario’s pronouncements mean that Frau Merkel will pick up the tab for Club Med Europe. But it is not so. All that Flexible Mario has done is to prepare the stage on which politicians will play, a point which he repeatedly stressed.

Finally, the other salient point today: Mario claimed there was zero discussion in the ECB council of the possibility of NOT sterilising some of the bond purchases, if they happen. In other words, quantitative easing is not yet under discussion.

Comic interlude of the day:

Some genius from Fox News asked Mario how dangerous it is that the ECB already has bonds to the value of 33% of Euro-area GDP on its balance sheet. The ECB balance sheet actually contains bonds to the value of about 3% of Euro-area GDP. Yo, Murdoch…

Graphic of the day

This BIS graphic shows how French banks, which had the biggest exposure to the mess to begin with, have also been slower than their German counterparts to unwind their exposure to ‘peripheral’ Europe. Put another way, when you are very deep in ‘le poo poo’, it is that much harder to climb out.

Like this:

With the ECB doling out almost half a trillion Euros of 1 percent three-year loans to European banks, I am made to think of Latin America in the 1980s. Remember that the Latin American crisis started in Mexico in the autumn of 1982, but it wasn’t actually sorted out until 1989 with the Brady bonds deal (not very clearly explained here). In between, the Fed and other central banks conspired to keep the banks that had lent way too much to Latin America alive.

Maybe the ECB can do that with Europe. If it lends enough cheap money to European banks, perhaps enough of it will be spent by the ‘private’ financial sector on government debt to keep all countries in the Euro. Then the ECB can wait for the US economy to recover and restructure all the debt in a better economic environment — much as the US did at the end of the 80s rather than in the early 80s recession. Southern Europe, like Latin America, just has to put up with a lost decade of growth and steady capital flight. Which is hardly a new thing.

This scenario doesn’t really feel likely to me. Above all Italy and Spain are way more important to aggregate rich-country demand than 1980s Latin America was. Italy may want to think it is Mexico, but actually it is France behaving like Argentina. If you know what I mean.

Which seems to lead to the conclusion that this baby’s gonna blow. Oh dear. Did I mention the IMF before?

It is about a new IMF report highlighting cross-border risks from uncontrolled capital flows. This from the agency which helped global banks rape half the world by campaigning for the premature lifting of capital controls in Latin America and Asia in the 1970s and 80s. (You will remember that the IMF was trying to make the abolition of all capital controls an objective in its Articles of Association in the midst of the Asian financial crisis in 1997.)

The FT is apparently unaware of the ironies inherent in an article of this nature. One era just segues into another.

Like this:

Time for Giuliano Mignini to investigate. The yield on Italian debt has hit seven percent. Which is the same as the number of deadly sins committed by the Italian prime minister. Every week, which in turn has seven days. And today is only just more than seven days after Halloween, the diabolical festival when Raffaele Sollecito and Amanda Knox, give or take a day, hatched their Satanic ritual murder plot. In Perugia. Whose name has seven letters.

It is soooooooo obvious that everything in the whole world is a conspiracy. How can anyone be expected to take action when confronted by forces beyond our control?

Frankly, they can’t. Which is why Italy’s professional class is doing nothing as the country goes down the tubes.

Let Rome burn!

The images will at least form a good backdrop for a Dolce and Gabbana advertising campaign. Sicilian peasant chic — combining glamour, stoicism and passion — is surely the perfect day-wear for the modern cataclysmic financial crisis. Not to mention a great metaphor for a society living on bullshit.

Prime Minister Nero putting in a bunga-bunga order last night.

Worth a read:

Nouriel Roubini reposts what he said about Italy at Davos in 2006. Roubini’s analysis led to a bizarre racial outburst from finance minister Giulio Tremonti, the former professor of ethics who was recently busted renting a Rome apartment for cash.

Only in Italy do markets bounce, the currency strengthen, and gold weaken when the leader of political ‘right’ says he will step down (in order, as the traditional Italian formulation has it, to spend more time with his bunga-bunga girls).

Of course Sil hasn’t said when he will go.

As if to remind us that whatever the Greeks can do badly, the Italians can do at least as badly, this limp political comedy will continue.

Meanwhile, the IMF has been invited to Rome, which will give staffers a pre-change-of-government chance to reflect on what actually needs doing to keep Italy in the Euro. Most economists quoted in the press focus on the need to deflate. But this is impractical — Italians couldn’t take the deflation any more than Greeks could. No society can watch its real incomes shrink by a quarter or a third in order to make economists’ graphs look the way they ought to.

The only real way forward for Italy is very serious structural reforms which unlock fairly quick productivity gains and hence growth.

There is no theoretical reason why this cannot happen.

However, the job that will confront the IMF if it is called in to run a programme — which I continue to believe it will be — would exceed anything it has undertaken before.

Not only the labour market and outsize public sector need to be overhauled, but the entire justice system has to be reworked.

Can a foreign agency do such things outside the settlement terms of a catastrophic war? I suspect not. Which leaves two choices. Either give Italy German money and accept the country will not change and will remain a fiscal burden on the centre. Or kick Italy out of the Euro and refocus the group on a more northerly European caucus of states that can actually deliver political, social and fiscal integration.

Blogroll

Baseline Scenario
About the US economy, mostly. These boys are not too funny (they are economists) but they put in serious hours on this site and it is worth reading. Johnson is a Brit former IMF economist with perspective. Updated daily.

John Kay
About Britain and micro-economic issues. Research-heavy analysis rather than opinion. One of the few people with really clear ideas on bank regulation, but not yet (for me) fully thought through.

Krugman
Posts multiple times a day cos he’s manic. I was at a boring conference with him where he appeared to take frantic notes. Later transpired all he had written on his pad was ‘I need a beer’, about one hundred times. Still got Nobel.

Martin Wolf (FT sub needed)
Particularly good on Europe. During his life, Wolf has fallen in love with — and then become disillusioned by — the Labour Party, the World Bank, and perhaps now globalisation. The constant is his hunger for answers.

The Big Lychee
About Hong Kong. Affiliated with Hemlock, the exquisitely misanthropic, underemployed, billionaire’s gweilo running dog. Original Hemlock files available. Updated every day, because the author has a huge salary and nothing better to do.